The contrast between the ECB’s mandate to achieve price stability and the Fed’s “dual mandate” to balance the goals of price stability and employment is not just an accident of legislative history but a reflection of fundamental differences between the two economies. Those differences make it more difficult to tame inflation expectations in Europe and therefore require the ECB’s tougher policy.

 

The role of trade unions is the most important difference. Only 7.5 per cent of US private sector employees are union members and they are concentrated in automotive, airline, construction and other depressed industries. In contrast, more than 25 per cent of employees in the European Union are members of trade unions and in some EU countries the wages set in union contracts are automatically extended to other companies in the same industry.

Because of this union power, the ECB must persuade union members and their leaders that it is determined to bring inflation down to its target level of less than 2 per cent. The ECB’s tough stance and exclusive emphasis on price stability is crucial to shifting inflation expectations and persuading unions to accept the rise in food and energy prices without pressing for offsetting wage gains.

In contrast, the Fed does not have to worry in the same way about union power and collective bargaining. Wage setting is decentralised and wage contracts do not have the formal links of wages to inflation that intensified the wage-price spiral of the 1970s.

Finally, the ECB recognises that it is still a very young institution that must prove to the European public that it will follow the successful anti-inflation tradition of the German Bundesbank. But a decade of relatively good performance is not a reliable guide to the future. The ECB is only now facing its first challenge of imported high inflation and the expanding membership of the European monetary union is bringing new voting representatives to the ECB whose views are yet to be tested.